Nephros, Inc. (NEPH) Q4 2018 Earnings Report, Transcript and Summary

Good afternoon and welcome to the Nephros Incorporated Fourth and Full Year 2018 Financial Results Conference Call. All participants will be in a listen-only mode. [Operator Instructions] After today's presentation, there will be an opportunity to ask questions. [Operator Instructions] Please note that this event is being recorded. I would now like to turn the conference over to Mr. Kirin Smith. Please go ahead.

Good afternoon, everyone. This is Kirin Smith with PCG Advisory Group. Thank you all for participating In Nephros's fourth quarter and full year 2018 conference call. Before we begin, I would like to caution that comments made during this conference call by management, will contain forward-looking statements regarding the operations and future results of Nephros. I encourage you to review Nephros's press release issued earlier today as well as Nephros's filings with the Securities and Exchange Commission, including without limitation the Company's forms 10-K and 10-Q, which identify specific factors and may cause actual results or events to differ materially from those described in the forward-looking statements. The content on this call contains time sensitive information that is accurate only as of the date of the live call today March 12, 2019. The Company undertakes no obligation to revise or update any statements to reflect events or circumstances after the date of this conference call except as required by law. I would now like to turn the call over to Daron Evans, Nephros's CEO. Daron, please go ahead.

Thank you, Kirin, and good morning, everyone. Welcome to our 2018 earnings conference call. I'll begin with the brief overview of our results, then provide a corporate update and turn it over to Andy Astor our Chief Operational and Financial Officer who'll do a deep dive into our earnings. I'm pleased to report that 2018 continue toward upward path. Our product revenues were up 54% over 2017, our growth primarily came from the Hospital Infection Control Segment which grew over 57%. Andy will dig into details on the revenues and expenses and also provide guidance for 2019. We expect similar path and have pretty bright future. We closed the strategic acquisition of Biocon 1 and Aether Water Systems at the end of the fourth quarter. With this acquisition, we added the Aether Water Filter portfolio to our product line. Aether Water Filters improve the taste motor of water as well as reduce scale build up in dousing equipment. Aether products target food service, hospitality and in store markets in hotels. The purpose of this acquisition is for accretive growth actually our entry into very large markets. We believe that enabling Aether to fully Nephros's sales and marketing, engineering and quality infrastructure will enable Aether's revenue growth to grow more quickly. Additionally there are a lot of cross sell opportunities that we've already experienced. We've begun selling some Aether products under the Nephros brand, the hospitals and the team, Aether has begun discuss our infection proof technology from the customers, hospitals have been digesting the need for multi-barrier approach to water passages for a number of years. We believe that restaurants, hotels and even home will need to put more focus on water safety and adopt this multi-barrier approach to the water management. We believe this good combination with Aether and Nephros gives us pretty broad portfolio to address most water needs of businesses and consumers. With the Aether acquisition, we have further increased our Water Filter portfolio, we back the standard of [indiscernible] market. In 2014 we are really excited about opportunities to bid on 5 ARPs. Today we're talking people of seven figures. Water quality is growing importance and we're, our goal is to position ourselves as technical leaders in the space and have the range of products that allow us to meet most needs. In last earnings call, we discussed both external and internal growth opportunities. Obviously, Biocon was one of our external opportunities. I'd like to discuss one of the internal programs now. We believe there's a gap in diagnostics process, for identifying water borne pathogens, it can take up to 10 days for some lab results to come back to confirm that a hospital or dialysis clinic has a safety issue. That's just too long. There's been a lot of progress made in overnight assays, but that's still too long in some cases. So what we've done is to create a broad spectrum diagnostic tool to provide infection control teams with the ability to assess which one or more pathogen might be in the water on a real time basis. While the initial details coming in the quarters, we hope to be able to launch this Nephros diagnostics tool by the end 2019. This product will complement our infection control and dialysis filter products. Our target market will be hospital infection control teams and those responsible for making choices OR safety in hospitals and clinics. We also will be discussing the safety tools with dialysis clinic both with biomedical engineers who focus on the water purity. Obviously a real time broad spectrum water safety assay has the potential of utility, many of the markets including those addressed by Aether product lines for the initial launch and we're going to focus on medical channels. I'll now turn the call over to Andy for financial overview.

Thank you, Daron. I'll now provide a look at our consolidated financial results as well as guidance about our expected revenues in 2019. I'm also going to cover an important result in our water filtration business segment. And then I'll give an update on our plans to up list to a National Exchange. I'll begin again with the consolidated financial results. I'm very pleased to report that this quarter represents our 10 consecutive quarter of year-over-year total revenue growth averaging 56%. As we spend consistently. We believe that this steady fast revenue growth is indicative of Nephros's strong product portfolio, the increasing market awareness of our brand, our deep relationships with partner companies in the field and the increasing regulations requiring water testing and remediation. We reported total revenues of 5.7 million in 2018, compared to 3.7, I'm sorry, 3.8 million in 2017. That's an increase of 1.9 million or 50%. Product revenue for the year was 5.5 million, compared to 3.5 million last year with rounding it was an increase of about one 1.9 million or 54%. Quarter-over-quarter product revenue growth was flat due to fewer than expected regional outbreaks in the fourth quarter. Cost of goods sold in 2018 were 2.5 million, compared to 1.5 million in 2017. That's an increase of a $1 million or 64%. Gross margins in 2018 were 56%, compared to 60% in 2017. We consider gross margin fluctuations between 55% and 60% to be normal for a business of our size and our growth rate. But having said that, our 2018 gross margins were lower than expected due to a one-time inventory adjustment in the first quarter of 2018 as previously reported. Research and development R&D expenses were approximately 1.5 million in 2018, compared with 1 million in 2017, a 54% increase. Quarter-over-quarter R&D growth was consistent with the trend with that trend for the year at 55%. The R&D increase over last year over 2017 is due to increased investments in the second generation HDF machine through our specialty renal products or SRP subsidiary. Selling general and administrative expenses, or SG&A were $4.5 million in 2018 compared to $3.3 million in 2017, an increase of $1.2 million or 37%. Quarter-over-quarter spend in SG&A increased 3%. Our cash balance at the end of 2018 was $4.6 million. A significant increase from our 2017 cash balance of $2.2 million. This increase was largely driven by two separate private placements during the year one for Nephros on April 10, 2018 and the second for our SRP subsidiary on September 6, 2018. We believe our cash balance is sufficient to fund operations for at least another year. And we have no specific plans to raise capital at this time. Based on our 2018 results and our strong sales pipeline, I am pleased to provide guidance with 2019 revenues between $8.5 and $9.5 million, which would be an increase of 50% to 65% over 2018. I now want to turn to a particular result in our water filtration business segment. As a reminder, we now recognize two distinct business segments within Nephros, water filtration and renal products. Water filtration is a 100% of our current revenues which have approximately tripled over the past three years. Our renal products business on the other hand is a development stage business, which Daron will discuss again a little later in the call. Begining with today's press release and earnings call we will track and report on a new non-GAAP metric for the water filtration business which is adjusted EBITDA or earnings before interest, taxes, depreciation and amortization. This metric is calculated by taking GAAP net income or loss and excluding all interest and related and I'm sorry -- all interest and tax related expenses and income as well as other non cash items. This calculation and reconciliation to GAAP net income or loss is further detailed in today's press release. Adjusted EBITDA for the water filtration business segment in 2018 was negative $860,000 I’m pleased to report however, that the trend in this metric was quite strong, transitioning from negative 686,000 in Q1 to negative 292,000 in Q2, to negative 18000 in Q3, and finally to positive 137,000 in Q4. While this metric may fluctuate, we do expect positive adjusted EBITDA in 2019. I’ll now turn our – my attention to the up list process and give you an update on that. As many of you know it was our intention to up list to a national exchange in late 2018. Our efforts have been delayed by several factors, including a minor technical accounting issue that has been resolved and changes in our board of directors. Our intention to up list has not changed. We expect to do so this year, including the previously announced reverse stock split and we will keep you informed as the process continues. I will now turn the call back over to Daron, who will touch on our HDF business and then open the call for your questions. Thanks.

Thanks Andy. In early September, we announced a $3 million funding round to formally launch SRP. We believe this funding will support the program through to early commercial launch of the next generation HDF system. Early this year in 2019, we finalized the IND points for the first production lot. This first lot of systems and disposables to be use for verification, validation and testing to the quarter 10K submissions. We believe we're on track to feedback or complete that testing and one submission in the end of the year. Pending FDA clearance, we expect to provide patients and nephrologists with our updated hemodiafiltration system in late 2019 and early 2020. We believe that's on track and we're doing really well. This concludes the formal presentation remarks. I'd like to add personally thank all of our stakeholders for their support and look forward to chatting again soon. As always please feel to feel free to call us anytime you guys have questions. We'll be presenting at several investment conferences over the coming months to share the story, but our doors always open. We're ready to take questions now.

We will now begin the question-and-answer session. [Operator Instructions]. The first question comes from Todd [indiscernible]. Go ahead please.

Good morning. This is Todd [indiscernible]. Two short questions, gentlemen. One, how much of the 8.5 million to 9.5 million in revenue is directly attributable to Biocon for 2019? My second question, can you provide an update on Nephros Latin America?

I'll take the first one and Daron will take the second. So it is our intention to bring Biocon, completely subsume Biocon into the water filtration segment. And so we're not in, it is not our plan to separate those revenues and so we're really just putting a total number of 8.5 million to 9.5 million, all of which will be from the water filtration segment.

And just to add a little color that. We're got EPOs now that have both products. So we're not, we're looking at different businesses. Actually Nephros Latin America. That's not really Nephros Company, that's another company, who's launching [indiscernible] or medical products and some for consumers in Colombia and the Andean region. They're not really going strong but do not work going on. It's just a tough market to sell premium filter in a market where they're used to paying pennies. So we are selling into places in the Andean region some through those guys, it's not a business for us it's basically a distributor. But thanks for following us Todd, I know you've been around for a long time.

The next question comes from Michael Motley a Private Investor. Go ahead please.

This is Michael Motley. This is for well whoever can answer the question. I want to know is there any demand for any of the Nephros products that you can't meet? Do you have anything on back order and then what is actually the level of demand for the Nephros products on an industry wide basis? Thanks.

Well, we don't any significant back orders. We're one of the things that we did in early 2018 in anticipation of the growth that we achieved was to stock up our, we frankly, we built a warehouse and then stocked it up. And so we're in great shape, we keep rational amount of inventory, balancing the cost of holding it with the ability to ship in an hour's and generally speaking we ship in hours, so Mike, we don't we don't have any supply issue. Furthermore the folks who build our filters for us can increase their can increase are quite scalable is what I'm trying to say. So the issue of suppliers is just a non issue for us. We are seeing increasingly demand for the Nephros name, we are seeing hospital chains begin to standardize on us, small change right now but that is beginning to progress. And so we're pretty excited about the Nephros brand and the demand that we're seeing on the market. Mike, if that answers your question.

It does, and thank you.

You’re welcome.

And I’ll add little more color. There's a lot of wide space. I mean we're a small company it's filling big spaces in the hospital space our biggest competitor is [indiscernible] they've got the majority of the market and there's lots of room for both growing overall market lot of hospitals but don't still use IC filters or standardized filters for a multivariate approach. But in this new space where we entered with the Biocon acquisition, and it's a $3 or $4 billion industry both national and we're not competing with players like ever peer and Cuno went pretty well into those, so we're I think like I like thinking we're fighting way about the retail and we've got the products to do it. And we're trying to do a rationale growth to be able to gain new customers and make sure we have good customer service and be able to keep them and keep growing from there.

Thank you.

Our next question comes from Claude Wydell a private investor. Go ahead please.

Hi guys, Claude Wydell. Just like to ask without the addition of Biocon would you still be forecasting revenue as 8.5 to 9.5 for 2019.

That sort of the question that Todd asked earlier with subtraction instead of addition. The short answer is maybe but we're not breaking up Biocon and Nephros sales it just doesn't make sense for us to do so. So Biocon, -- let me add a little bit of color here. Biocon is a very small company and we're not our growth is primarily what you would expect it to be which is Nephros filter growth. Biocon is a small company that gives us a toe allows us to put our foot in the water in the commercial and convenience store and hospitality space. And gives us some juice to go into that space. But the first year particularly of Biocon incremental sales will be modest, okay?

Okay. And I was going to ask if on the back of that, not to say back twice but CamelBak military social sales. Is there any progress being made there?

Andy, you want to take that?

So we have to direct you to those guys because they're driving sales that they continue to try to push for big motor contracts. We've seen to produce, I think that have been pursue on the segment. It's one of those, it's kind of a lottery ticket, if they get $30 million $40 million military contracts for even rational this multi countries, it's great. I think that they're sort of rationally trying to address that market, but I direct you to those guys for how they're doing.

Okay. The reason as the Biocon questions I'm sure is this, we've seen a miss pretty hefty miss on the fourth quarter numbers and you said that was down to a lack of outbreak of patients legionnaires or whatnot. But as investors we want to see that the waterside is growing on it's own, because so far that's what's sustain this far. So that's the reason for those questions there, but thank you.

You're welcome Carlin. We feel exactly the same way. And it's our intention to continue to grow the water, the water filter business that is sort of programmatic year-over-year, quarter-over-quarter growth that shows 50% plus year-over-year.

Are you guys still seeing the hospital that rate of growth remain about the same? Can you give some updates on that?

And it hasn't really, it thankfully it has continued to meet our expectations. We, the guidance that I always talk about is, look for about 50% on any given quarter year-over-year with wide, with a large standard deviation, right? It might swing from as low as 25% to as high as 100%. But on average, we're doing 56% quarterly growth on a year-over-year basis. And we don't see that changing that is, it may, of course, it might accelerate and of course, it might decelerate. But fundamentally, we believe that number that's 50% 60% growth rate seems to be holding.

Do you guys foresee any possibilities with a company such as not to mention the elephant in the room Tal. There is a big one out there and do you ever see any potential for partnerships with the company like that where they might do trials for instance like the usage of with us with the HDF to three years back?

I don't see it happening, it's a actually pretty intensely competitive market and we've been winning contracts from them big RFPs and multi-year RFPs and they their tactics are not as admirable as they could be. So I don't see that as a rational working. The bigger opportunity or threat from those guys I see is that they realize their technology isn't quite cutting it and they come out with a new one but they're trying, we're trying filter is a filter that have the market. We've got customers and they wrap them up with testing and other products. So they provide a good a good service to the customers. And I think they're better focused, so which is not a -- we're not really frenemies.

Got you. Thank you.

[Operator instructions] Our next question comes from Larry Cassidy, a private investor. Go ahead, please.

Good morning folks. I appreciate your input this morning. My question is the [indiscernible] investment in the SRP business the 2.0 of the HDF being as such a big investment relative to the company. Do you have any indication from the big houses that once it's marketable that they have an interest in it.

So you know we, it is a big bet, naturally one of the reasons why we wanted to spin it off as kind of a separate business. You know, it has a different buyer as a company has a different target sales market and it's development stage. So as we want to separate it from the commercial stage business. But once you gets back to the market we would not have gone on to raise money around it if we didn't believe there was a consumer for this product. When we launched the first product, the personalized product I believe the only real reason that didn't work is that it was hard to use and it was kind of cumbersome and if you’re going from the train it was – and beautifully engineered device that was really hard to use. This new version is we're trying to get it so that you go from a two day training session to a two minute with no with a YouTube instruction. Training dialysis nurses of PCP. So really good at using the current system. And so we've designed to work in net flow and not require some of the cancer patients cleaning that was acquired in the previous system. So we have a shortlist of products to call this in the past. I want it now and we said no. Cause we didn't want to load out in a way that we’ll make it than we’re able to get the market. We still have that that list and as soon as we have a working product with 510-K clearance on it, I think we can get to that 50 sites pretty quickly and then from there it will be more of a cost decision but there's definitely demand in the market and some of the new papers that have come out on the European study there was Japanese study in pediatrics recently, HDF has a place, had a place in the market and it will be some percent it may not be with 18%, 20% in Europe, but for a small company like ours wouldn't 1% for us would be around you know, $15 million market disposables and you release the first revenues machine. So it is a business unit that can stand alone is a business unit purchased by another player in the space what we do know is that there is a demand and we have a path to get a more likeable products that meet the needs of the patient and the user. We hope to build updates and get the clearance and get back in the market soon.

So, the belief is that if you build that they will come.

No, we know there’s demand.. So of the known demand we can run the business on today. We had a machine that's working today we could be cash flow self sustaining based on what we know is, as nephrologists that are sort of forward thinking want to have it as an option in the clinic. We also believe that once patients know it's an option out there, and this is what's happened before. We do call the patients and patients, relatives or caretakers thing, I want it why can't you have it? Why can't it be put it in my clinic, why can't you put it my physician clinic. So there's a demand and we'll see patients qualitatively. But they're still there and when you have a treatments that makes them feel better and a time where they most of them just don't feel good at all. There will be a place and it won't take a large infrastructure to support and we will make [indiscernible] to be relatively easy rollout

Second question on the waterside, water filter business. Do you see in the profitable by the end of this year?

I'll grab that the water business, that's really the purpose of putting up the EBITDA, the adjusted EBITDA metric. So with, if you look, if you take out non-cash items, the water filter business actually went positive in Q4. So it's not profitable it is adjusted EBITDA. We will turn profitable, if that trend continues we'll obviously cross into profitability. We're not going to put a date on that. But we're we've clearly hit a milestone in our opinion at any rate by having positive adjusted EBITDA in the fourth quarter of last year of 2018.

This concludes our question-and-answer session. I would like to turn the conference over to Andy Astor for any closing remarks.

Well, thanks, everybody for attending and for your questions. They were thoughtful and thought provoking. I'm just want to repeat Daron's statement earlier which is, if something doesn't make sense if you have a question if you want to chat Daron and I are both available. If you shoot a note to either Daron@Nephros, or Andy@Nephros we will respond. And it's really helpful to hear the perspective of the investor and that's important to us. So please feel free to contact us, if you think there's a if you're confused about anything we've said just reach out we're here. Thanks again everybody for coming and we'll see you at the next Investor Conference. Take care. Bye-bye.

Conference has now concluded. Thank you for attending today's presentation. You may now disconnect.